Zomato to venture capital to emerging markets, valuation guru Aswath Damodaran busts the hype

hello and welcome to path Breakers with me Neha bothra on the show is a very special guest who is also known as the dean of valuation he is one of the greatest professors in the world of Finance I'm talking about ashwathamudharan who joins us today from California to talk about valuations and a lot more stay tuned [Music] thank you so much for joining us on path Breakers very grateful for your time you're welcome Professor you came to California in 79 from Chennai India was a very different place Chennai was a very different city how is it coming to California at that time culture shock I mean it was in fact you could think of Two Cities at opposite ends of the spectrum Chennai and Los Angeles would probably have been those opposite ends I mean I went from a city where TV had just come out for three years before and what you watched was I Love Lucy and agricultural shows to to the heart of you know entertainment in 24-hour TV so it was a cultural shock but I was young and young people adapt and I adapted to the new circumstances and you decided to study Finance I actually did my MBA and I had no intentions at that time I had no dessert I mean I had no long-term plans I thought a year ahead and essentially said I'm going to get my MBA and then we'll see what happens what led you to actually pursue a career in teaching I mean at that time Investment Banking boom had just started I think you two were headed towards a career in Investment Banking what made you rethink your decision it shows you how the big decisions in your life are often made in on accident because it was actually this I think the very last quarter of my MBA program I think I had a job lined up at an investment bank and as you said it had been on the ground floor of what was then going to be a huge growth business and I needed money because I was I was running out of cash so I agreed to be a teaching assistant in an accounting class I don't even like accounting and I walked into that first session and 15 minutes in I knew that this was what I wanted to do with the rest of my life I tell people look there are moments in your life where you get I I'm not even sure how to describe them but messages from God saying this is what you're meant to do I'm not saying I'm a vessel for religious messages but I knew that that this was what I wanted to do with the rest of my life so after that session was done I walked up to the finance department now as I looked across all of the different classes I'd take in financing to be the most interesting the most fun I walked up to the finance department said I'd like to do a PhD because that was the entry to being a teacher in finance I'm not a professor I'm not a researcher I'm a teacher first and foremost and that was my entry point to teaching that's very profound in the fact that you stuck to it for four decades and more in the interim you never wanted to explore a career in Asset Management you are the guru of valuation and is that a thought that never crossed your mind I think even if even if we take a first level economics class you told the objective in your life is to maximize utility it's not to maximize wealth it's not to maximize income it's to maximize the happiness you feel over the course of your life I have a job I love I don't even describe it as a job I have a passion that happens to be my job there is no day that I wake up I'd say I wish I didn't have to teach today when you have something that truly brings together your passion and your livelihood why would you ever want to go explore something else I I mean and I you know let's let's be quite clear I I haven't sacrificed anything along the way I have everything I need I might not have everything I want but who does now nobody does I have everything I need and could I get more yes what am I going to use it for from that perspective I've never been tempted to be anything other than what I am which is a teacher I've never consulted a day in my life I don't do expert witness work I don't serve on Boards of directors I essentially don't do any of those things because you know I don't see the need to I I'm lucky enough that I don't have to do those things so I'm not looking down on the people who do it but for me teaching is front and center what I do Professor having interacted with your students I do know that you're so loved and so respected by thousands of students you've taught over the years in fact they tell me stories about how they Ambush you outside the class at the gym just to get more from you why is it that students are able to really connect with you the way you teach a subject like valuation which wasn't even there until 1986 I think I think it's I mean when I set out in a class I don't set out to kind of instill what I know in other people because that's going to pass I want people to get a window into how I think through problems because remember the old saying that you want to teach people how to fish rather than give them fish the objective in teaching is to give people a sense of how you think so if I have changed the way people think that to me is the biggest contribution I can make as a teacher so I hope I make people curious I because I think human beings instinctively want to learn I truly believe that hopefully they ReDiscover that in my class and they can go out and find their own Curiosities and come up with their own Solutions I think the most exciting part especially in the classes I teach is I have 50 000 live case studies out there every publicly traded company is a case study a case study because you can value the company and there's a market price today so it's fascinating for me to value a company in real time and see how it plays out it does mean that in hindsight you could be wrong I mean I've valued in very a few weeks ago I came up with 410 dollars per share today it's trading at 500 I'm getting emails from people saying what did you get wrong I am not upset or worried by that because I think the exciting part of doing this is having it happen in real time and see how the market evolves over time so it it I think adds to the excitement so I'd rather look at things happening rather than things that happen 10 20 30 years ago and luckily I teach in a discipline where I'm able to do that in real time the current world is very volatile and of course uncertainty is a feature of investment but how do you look at valuation in current times there is so much data to analyze and there's a lot of information available but how do you join the dots to come up with a valuation that is sustainable considering the kind of disruption we keep seeing I I know I'm going to push back on the notion that we live at a time of extreme uncertainty do we do you think the people who came out of the second world war faced less uncertain times than we do or the invention of the automobile and how it changed the way people live our electricity or the the original factory system I don't think we live in special times each generation likes to think it's special you know why we feel that we're in more uncertain times because everybody's prom becomes everybody else's prom over the last weekend we had a hurricane or at least rumors that we're going to have a hurricane in Southern California where I live and I received calls from my family in India saying you know are you okay you know we heard about the hurricane in 1981 if there'd been a hurricane in Calcutta forget about Southern California you probably wouldn't read about it in Chennai till what three days after the Cyclone hit so I think one of the reasons we feel more uncertain is we're inundated with information and everything happening in real time not just around us but around the world and I think that's making us very uncomfortable because as human beings uncertainty makes us uncomfortable so in a strange and contradictory where access to data is actually making us more susceptible to doing emotional things because we now feel we're more surrounded by uncertainty and when you do you behave in unhealthy ways so when you look at a company today and you try and come up with a valuation for that company how do you go about it say first I think you need to look at the uncertainties you face and organize them not all uncertainties are created equal I believe in putting uncertainties in buckets you have a sense of what's going into which bucket so to keep it from getting overwhelmed I mean I tell people look if you make a list of everything you're uncertain about a new valuable company and is going to run to hundreds of items you're going to feel overworked organizing it is the first step second recognize that the nature of the uncertainties you face will be very different depending on the company you value now valued zomato the kinds of uncertainties I faced so very different than when I value Asian paints or when I value grasm or when I value you know ITC as companies a is the kinds of uncertainties you face will vary second once you've decided which uncertainties are the big ones with this company face up to the uncertainty don't hide from it don't go into denial and facing up the uncertainty means but figuring out how uncertain you are and actually incorporating it into your analysis I mean I do what I call simulations in valuations rather than valuing a company with Point estimates Revenue growth is going to be 23 margins are going to be 15 you build distributions around your assumptions and you come up with distributions of value it's a much more honest way of saying look I can give you a value for a company but I'm going to be wrong why not because I haven't done my homework but because I'm not God essentially you're going to be uncertain because you don't control what the future will deliver and I think facing up to it gives you a much better chance of dealing with it and my final advice when You Face uncertainty is keep it simple don't have hundreds of line items because again you'll get overwhelmed less is more and I think that message more than anything else that stood me in good stead when I think about value companies but there's a lot of uncertainty you often talk about how pricing is different from valuation and you talk about the role that narratives play the role that storytelling plays when you talk about valuation can you tell us a bit about that now let's first take the contrast between pricing and value right pricing essentially is a very simple process you decide how much to pay for something by looking at what other people are paying for similar things so let's say you wanted to buy the Chennai Super Kings why because you're a billionaire you want to have an IPL team as your trophy asset you know how you're going to decide how much to pay for it you're going to look at what somebody paid for another IPL team or maybe another professional sports franchise and you say hey they paid a billion dollars I'll pay a billion dollars as well that's pricing in pricing your attach a number to an asset based on what other people are paying for similar assets it's how we decide how much to pay for a house or an apartment pricing is intuitive we all do it valuation on the other hand requires that you understand a business so if you want to buy the Chennai Super Kings as a business you got to understand how they make money how much money they make from the stadiums how much money they make from media and essentially think about how much you will pay for the business you're buying it's more work but your assessment then drives your decision most people price things they don't value them they like to use the word value when in fact they're pricing thing and how does the role of narratives come in I think a lot of people when they think about valuing the company think about inputs what's my Revenue growth what are my margins they think about numbers but those numbers reflect the story you're telling about the company ultimately what keeps those numbers held together what keeps them consistent is the underlying story so we go back and look at my zomato evaluation you can agree with it or disagree with it it's not about what I'm using as Revenue growth and margins that's giving me the value it's my story of zomato as a restaurant food delivery business that's going to feed off the growth of that business in an immense market like India that's a story that's driving it now you could tell a different story about zomato you might say look it's not a restaurant food delivery business it is a grocery delivery business in addition that changes the story it changes your inputs will it make the value higher maybe it will maybe it will not but it's a different story I tell people look when you build a spreadsheet think about the underlying story because even if you say I have no story your numbers convey a story and you got to believe in that story so last year you had a fair value of 35 per share for zomato has that changed I think that you know I haven't Revisited the valuation I think they've done some things better some things worse but I think the price is going to go up and down until you get to some steady state here it remains still predominantly a restaurant food delivery business I don't think the facts on the ground have changed that much so there's a tilt in the value it's got to come from risk premiums changing maybe a higher Base number I don't see the value dramatically shifting even though I haven't done the full-fledged valuation because I don't see a shift in the story and that's I think the key unless the story shifts your value is not going to change dramatically what could cause my story to shift well if the model shows evidence that can actually make money on grocery deliveries that's a huge business then I'd be inclined to go back and revisit my story and valuation I'm not stuck on my story and valuation in fact one of the biggest dangers in investing is falling in love with your own story for a company in which case you refuse to look at the data because the data might contradict your story I try and that's all you can do to try not to fall in love with the stories I tell from my companies Because unless you keep that feedback loop open unless you're willing to change your story you're going to be locked into decisions you shouldn't be locked into professor professor in India at least we've seen many of these new age Tech startups that have seen a massive erosion in terms of their valuation after they listed on stock exchanges what explains that is it because they haven't been able to keep up with the projected growth momentum it's a loss of confidence what do you think has changed in the story for the valuations to come off 50 60 percent from listing I think one of the dangers of using case studies sometimes is you think that so if I use the Amazon case study you're saying oh this is great every everybody should do do this we forget how many companies like Amazon in 1997 never made it to 2001 or 2002. for young companies to make it lots of pieces have to fall into place so when people accuse me when I value there's a motto of being too pessimistic I what I think they're missing is how many things have to work out for a young company to become a large successful company I mean I was off awfully wrong on paytm and you can see what happens when you tell a story and management is incapable of delivering on that story what can happen to your value so I think that with young companies I tell people you're going to be wrong a hundred percent of the time because things will always happen that are out of your control and only a few of these companies will come out of the other end as these Superstars these 10 Baggers a hundred Baggers that become legendary Investments did it also have to do with the unfounded optimism very often we've seen Venture Capital firms actually come out with valuations which they say is based on a potential Market size how do you explain that I'm going to do something that bugs students in my class whenever they use the word valuation in a context where I think it should not be used as definitely do you mean pricing Venture Capital value companies they're incapable of valuing companies they price them the price the voice based on what based on total addressable markets number of users number of subscribers I understand why they do what they do but remember it's a pricing game which means a game does well when the momentum is with you but when the momentum shifts guess what the price adjusts as well so VCS are Traders they're not investors they trade on companies and a successful VC is one who times the drive times entry and exit right so I would not shed any tiers for VCS who lose money when momentum goes against them because they make money when momentum is in their favor but I don't expect VCS to have deep thoughts about businesses because they're interested in whatever metric will allow them to flip the company to other people at a higher price AI is a big team that has got the fancy of money managers and investors alike how do you see this playing out do you think that investors are putting too much weight on this are they overestimating the returns they can get from artificial intelligence and what is the potential downside of this now I think in a sense what where you know it is true that AI is the mood at the moment and I do believe that AI is the capacity to change the way we live I mean that one of the questions I ask about these these buzzwords when they show up is is this a word that can change the way we live I didn't feel that about the metaverse when I thought about the metaverse I thought about 25 year olds virtual reality glasses and I I could not relate I did not feel that way about the cloud business but if you look at during my lifetime the four big changes that have changed the way we live and work the first was personal computers in the 1980s the second was online no the internet in the 1990s and following through the third was social media and with each of these recognized wasn't just businesses changed the way we lived to change the way we all work I think AI is the potential to change the way we live and work so that's the good news the bad news is that you take those three big trends I talked about PCS the the.com boom or at the internet and social media and you think about who were the winners that came out of this game first remember there are relatively few winners from this game so if you look at the PC business almost none of the original PC companies ended up as winners Dell compact all faded away in fact the biggest winner from the PC business is a company that supplies software to PCS which is Microsoft you look at online the big winner of course is Amazon but there were companies that provided the infrastructure for the online Revolution Cisco it peaked in 2010 it you know it kind of faded down to becoming a large and successful company the big winners of social media have been Facebook Google no so you can see that each Biz each of these big movements has created a few Big Winners so I can understand why you know mutual funds and investors are excited they want to find the next big winner but here's the thing that needs to be kept in mind most of the rest of the world did not gain did not become more profitable I mean taken the internet it destroyed a lot of businesses it had a few big Winners but the rest of the world actually emerged as less profitable because of the.com retelling Revolution I'll make the same prediction about ai ai will create some winners Nvidia right now has been anointed as one of the winners Microsoft has been anointed as one of the winners and maybe they will end up as the winners when this game is played through but the rest of the word I don't see how this is going to make a retail business or a grocery business more profitable Krogers which is a grocery chain now the the last earnings report talked about AI eight times during an earnings call I failed to see how bringing AI into the grocery business is going to make it more profitable I know there are stories about how to reduce costs but I was saying if everybody hasn't nobody has it of every grocery chain is AI guess what's going to happen costs are going to come down across the board but total prices and sold margins so 10 years from now when we look back at AI even if it succeeded as a major movement I'll predict you're going to find maybe a handful of winners a lot of wannabes companies that tried to get on but never quite made it most of them will end up spending money they will pay a lot of Consultants a lot of advices for these AI tools but they'll have nothing to show for it a lot of people are going to get rich on AI right but they're going to be Consultants advisors suppliers of services that'll make that they will claim will make you better so I you know you can predict because you've seen it happen with the other booms it is predictable I understand why companies will do it but I'll also make the prediction for most of them the payoff is going to be negative there's also the debt overhang many of these companies have on the balance sheet this is a very traditional problem that Indian family businesses have been going through what's the end game I know sometimes people running companies have to choose whether the value control over the value a healthy company and sometimes the two are mutually exclusive there are some family groups in India that value control so much that they've refused to issue Equity not because they cannot but the issuing of equity they feel will dilute their ownership and control of the company and chosen to borrow money it's a choice it's a choice that is double you know it's double edge and good times that helps you in bad times it works against you healthy family group companies understand that issuing Equity is not a bad thing to do giving up a little control to have a healthier company to me strikes me as as a good trade-off but it's not an easy one for families that value control so much that they don't want to do it and speaking of this inflation is a big concern and interest rates are also going up to tackle inflation how are you looking at these things in terms of how they will impact businesses and investors alike because we don't seem to be going back to the earlier decade where we saw a lot of easy money we are reverting to normal again how will we adjust there will be a bit of pain along the road what are the few advantages of getting older is you remember times when inflation was seven eight percent when interest rates were nine percent when mortgage rates were 10 percent so when people look at rates now and say oh my god I've never seen something like this both they're giving away their age I mean for 20 years we've been lazy I mean people forget that the last decade in particular is perhaps one of the most unusual decades in economic history a period where inflation was not just low but predictable and people got lazy so guess what this is just a wake-up call saying you know you thought inflation had been conquered it's back again this is a reversal back to things that people used to do that they stopped doing because it wasn't a problem anymore so I think people who took interest rates for granted inflation for granted did not explicitly factor that into that contracts the way they do business are going to get a wake-up call so that's why I think you know P you know managers in Turkey might be in better shape than managers in the U.S or Europe because turkey's had inflation for the last decade for them it's never been a problem that went away you know and and there are some Indian managers younger managers who forget there were periods when inflation was double digits in India when interest rates were much higher and sometimes it just takes a little getting used to so there's going to be an adjustment period for managers who are not used to dealing with higher inflation and more volatile inflation how I see this panning out for emerging markets in particular I think Emerging Markets are a mixed bag right I mean Brazil is very different from India is very different from China so you almost have to name the Emerging Market I don't think there's a collective statement you can make about Emerging Markets emerging markets that keep inflation in check are in much better shape than emerging markets that don't so I would argue that we need to start to stop bunching countries together and this is true not just for emerging markets for developed markets and start separating countries that are being run sensibly from countries where you you know the bill is going to come to you so I think you know rather than Bunch India with a bunch of other Emerging Markets with very different issues and problems I think India has to think about what it's specific problems are and what policies might be needed to kind of deal with those problems do you think that India stands better when compared to Emerging Market pairs I mean I and I think that that that is the consensus right now right if you look at the last two years if you looked across Emerging Markets India is has been one of the winners because it's had a combination of healthy economic growth lower than it might have been but still healthy and inflation that's not out of control so so far NDS pulled the Trump cards out of there are out of the card deck they've got a good hand but remember you can play a good hand badly so the game is not over I think you know you can't settle on your on what's been done well I think you need to keep working at keeping inflation under control and keeping economic growth at a healthy number the danger for India is that shouldn't overreach I mean what do I mean by overage I mean I hear people saying India should be the next China they need to go for double-digit growth sometimes I think settling for a lesser growth rate but making sure that that growth is delivered in a more healthy way it's better than going for the double-digit growth and overreaching because you're seeing the consequences of overreach in China because some of the hangover that China is going through is because the government got caught up in we need to keep double-digit growth at all costs guess what all costs is a dangerous word because the cost you better can be more than you can really deal with in the long term we have a bunch of advantages though one is the digital infrastructure that is in place which is one of the best in the world we have a young population which is a big Advantage as well don't forget the biggest Advantage right if India 20 million people rather than a billion and a you know billion three or whatever the updated number it is we wouldn't be talking about in India as a success story I mean this is a big Market it's a growing market and so you can see why there's so much excitement about the Indian story and I think fundamentally the India story is a is a really positive one and that's why I said the danger here is overreach which is you start to make the story too big then you overreach you try to do things you should be doing but I think India should also be aware of its weaknesses I mean the the weaknesses are still in infrastructure India still is a country that lacks the infrastructure to sustain the growth it wants to deliver and that means that sometimes settling for a slower and steadier Pathway to being a successful company might end up being the better strategy China of course is going through a period of economic upheaval do you think India has a sustainable advantage over China which can play out meaningfully over the next two to five years I think for 20 years we've had this contest between a democracy and an authoritarian regime and as businesses which one would you rather operate in and for the last two decades businesses have chosen China and authoritarians because the rules are set they said look Indian things change all the time the nature of democracies right things change all the time rules change regulations change China is predictable it's easier to run a business but the Dark Side of operating in a regime where a government basically sets the rules and there is no challenge legal or political to that view is that governments can be can be capricious the government that's on your side today can become your enemy tomorrow and this is not just foreign companies take a look at what's happened to the big Chinese tech companies Alibaba tencent where the government was viewed as an ally for the longest time but Beijing said no guys you're not our allies anymore they lost you know basically 60 70 80 percent of value and their pathway to being trillion dollar companies so I think that businesses are recognizing at least in the last two or three years the downside of being an authoritative so this is a moment for India right they can actually repackage the the chaos that goes with being a democracy as chaos it's actually good for business in the long term because it's risk that's continuous risk that you can deal with risk that you can manage rather than this discontinuous risk that comes from dealing with an authoritarian government so I think for the moment at least the balance seems to have shifted towards India on that basis it's not permanent you know you're always going to have you know three steps forward two steps back but at the moment I think India does have an advantage over China because of its political system and that's not been true for much of the last two decades professor the damodar and UFC markets go through boom and bus what are your key learnings I think the lesson I've learned is my motivations have to be internal they can't be external as long as I look outwards to experts to Specialists for my for my for what I should be doing I'm going to be pulled back and forth I need to internalize what I know and I tell people and this is going to be very strange advice we read too much now we think too little I think we need to start to go back and think about questions and answers and try to reason our way through and if it's the one lesson I can take away from this is as long as I'm comfortable with my own decisions it doesn't matter to me what other people think about my decisions it's not their problem it's mine what have markets taught you as an investor that the markets are bigger than any of us so in markets you know people talk about you know Warren Buffett you know telling you what the Market's doing I I think that makes sense we've got to recognize that markets are you know if you think about markets the the market is essentially a consensus of the entire I mean millions and millions of investors coming together so it's an it's an amazing instrument for delivering that consensus message and I think that if nothing as I tell people look I can disagree with markets I can think they're wrong but I should always respect markets and I always do so when you too quick to jump to the conclusion the market has gone crazy the market is wrong I think you're missing a chance to step back and say what is the market seeing that I'm not saying professor damodar and thank you so much for joining us I appreciate your time thank you for sharing your views and insights on path Breakers thank you so much thank you for having me that's all we have time for on this edition of path Breakers many thanks for watching goodbye [Music] thank you [Music] foreign

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Length: 32min 19sec (1939 seconds)

Published: Wed Sep 20 2023